- Waller offered some of the strongest pushback yet against market easing expectations; December retail sales data will be the highlight; Fed Beige Book report for the January 30-31 FOMC meeting will be released; Canada December CPI ran hot
- ECB officials continue to lean against market timing on policy loosening; U.K. December CPI ran a bit hot; Hungary will consider larger rate cuts in the near-term
- Data from China were mixed; Indonesia kept rates steady at 6.0%, as expected
The dollar is trading flat ahead of the retail sales data. DXY is trading at the highest since December 13 near 103.581 today and is on track to test the December 8 high near 104.263. However, the 200- day moving average near 103.45 is providing some resistance. The euro is trading flat near $1.0880 and is nearing a test of the 200-day moving average near $1.0850, while sterling is trading higher near $1.2690 after higher than expected CPI data (see below). USD/JPY traded at the highest level today since December 1 near 148 and the break above 147.45 sets up a test of the November 13 high near 152. AUD is the worst performing major on weak China data and lower iron ore prices and is testing the December low near .6525. All indications are that the U.S. economy remains robust in Q4 and likely to remain so in early 2024, which certainly wouldn’t require 150 bp of easing from the Fed this year. Over the past few weeks, the readings have mostly come in on the firm side and so we continue to believe that the current market easing expectations still need to adjust significantly. These expectations have started to shift but more needs to be seen. Perhaps today’s U.S. retail sales data will help the adjustment process.
AMERICAS
It's still early days but because of this current rally, the dollar is up YTD against all the majors. GBP, EUR, and CAD are outperforming while JPY, SEK, and AUD are underperforming. Looking at EM FX, the dollar is up YTD against all except INR (up a mere 0.1% YTD) while CLP, KRW, and THB are underperforming. The dollar gains are all the more impressive given that dovish market pricing for Fed policy remains largely intact. This likely reflects the deteriorating outlook for the rest of the world. If and when Fed expectations are repriced, the dollar should see another leg higher.
Waller offered some of the strongest pushback yet against market easing expectations. Waller acknowledged that the Fed could cut this year if inflation does not rebound but saw no reason to move as quickly or cut as rapidly as it has in the past. He stressed that when rate cuts begin, they should be methodical and careful whilst being driven by the data. This is a very cautious tone by one of the leading hawks on the FOMC. Waller's tone suggests the Fed is looking to do several small insurance cuts rather than the aggressive easing seen in the 2007-2008 and 2019-2020 cycles. And really, that makes perfect sense. Those two easing cycles were done during a financial crisis and a pandemic, whereas we are now back in a regular business cycle slowdown that really doesn't require large rate cuts. Market pricing needs to adjust to this reality.
Fed easing expectations are starting to adjust. WIRP suggests only 60% odds of a cut March 20 vs. 70% at the start of this week and 75% at the start of last week. However, the market is still pricing in 150 bps of Fed easing this year. Upcoming U.S. economic data will either curtail market expectations of aggressive Fed funds rate cut or validate them. Given extreme market positioning, we believe the dollar’s downside is limited with the risks skewed to the upside given how robust the economy remains.
December retail sales data will be the highlight. Headline is expected at 0.4% m/m vs. 0.3% in November and ex-auto is expected 0.2% m/m, the same as November. The so-called control group used for GDP calculations is expected at 0.2% m/m vs. 0.4% in November. Consumption picked up in November and we see risks of upside surprises in December as job growth continues and consumer confidence rises.
Fed Beige Book report for the January 30-31 FOMC meeting will be released. We expect the report to highlight easing price pressures, slower hiring, and moderating economic growth from Q3 that’s still relatively robust. We expect the tone to be one of cautious optimism and do not believe the report will suggest imminent rate cuts. Today, Vice Chair for Supervision Barr speaks on measuring cyber risk in the financial services sector (Q&A: no), Governor Bowman speaks about the path forward for bank capital reform (Q&A: yes), New York Fed President John Williams will deliver opening remarks at an event focused on the importance of measuring equitable growth (Q&A: no).
Regional Fed surveys for January will continue rolling out. New York Fed services survey will be reported and stood at -14.6 in December. Yesterday, Empire manufacturing kicked things off and came in at -43.7 vs. -5.0 expected and -14.5 in December. Philly Fed manufacturing survey will be reported tomorrow and is expected at -7.0 vs. -12.8 in December.
Other minor data will be reported. January NAHB housing index is expected at 39 vs. 37 in December. December IP, import/export prices, and November business inventories will also be reported. IP is expected at -0.1% m/m vs. 0.2% in November, while manufacturing is expected at 0.0% m/m vs. 0.3% in November. The data should confirm the survey readings that suggest the manufacturing sector continues to contract. The Atlanta Fed’s GDPNow model is currently tracking Q4 GDP growth at 2.2% SAAR and will be updated today after the data.
Canada December CPI ran hot. Headline came in as expected at 3.4% y/y vs. 3.1% in November and was the first acceleration since August to the highest since September and further above the 2% target. Core measures unexpectedly accelerated, with core trim rising two ticks to 3.7% y/y, core median steady from a revised 3.6% y/y (was 3.4%) in November, and core common steady at 3.9% y/y. It's worth noting that the Fed and most other central banks put a lot of weight on core inflation even though they usually target headline inflation. That's because headline gyrates from volatile food and energy prices but typically gravitates towards core over the longer run. WIRP now suggests 80% odds of an April rate cut vs. fully priced in at the start of this week.
EUROPE/MIDDLE EAST/AFRICA
ECB officials continue to lean against market timing on policy loosening. When asked about rate cuts starting this summer, President Lagarde said “I would say it’s likely too. But I have to be reserved, because we are also saying that we are data dependent, and that there is still a level of uncertainty and some indicators that are not anchored at the level where we would like to see them.” Elsewhere, Governing Council member Knot warned “Markets are getting ahead of themselves, it’s pretty clear, and the problem for us is that in the end that might become self-defeating.” Governing Council member Vasle said “My expectations are different than those in the market. For me, personally, it’s absolutely premature to expect the first cuts at the beginning of the second quarter.” WIRP now suggests only 85% odds of a cut April 11 after being fully priced in at the start of this week, while 150 bp of easing this year is still priced in.
U.K. December CPI ran a bit hot. Headline came in at 4.0% y/y vs. 3.9% in November, core remained steady at 5.1% y/y, and CPIH remained steady at 4.2% y/y. All three measures came in two ticks higher than expected. The largest upward contributions came from alcohol and tobacco. Furthermore, services CPI inflation came in at 6.4% y/y vs. 6.1% expected and 6.3% in November. Bottom line: underlying inflation in the UK remains high and is not on a firmly downward trend. As such, U.K. interest rate expectations can still adjust higher and offer GBP some support. WIRP now suggests the first hike will come in June vs. May at the start of this week. However, 125 bp of total easing this year is still expected.
National Bank of Hungary will consider larger rate cuts in the near-term. Deputy Governor Virag said “Now there’s more room to move in the direction of 100 bp cuts” compared to 75 bp cut seen the past three meetings. He added that a larger cut would only be “a temporary phenomenon for one month or two months or for three months.” Next policy meeting is January 30 and a 100 bp cut to 9.75% now seems likely. The swaps market is pricing in 150 bp of total easing over the next three months followed by another 250 bp over the subsequent three months and then another 125 bp over the subsequent six months that would see the bases rate bottom near 5.50%.
ASIA
China December IP and retail sales data were mixed. IP came in at 6.8% y/y vs. 6.6% expected and actual in November, while retail sales came in at 7.4% y/y vs. 8.0% expected and 10.1% in November. Low base effects from late 2022 are flattering the y/y comparisons. However, this gives way to high base effects from early 2023 and so the y/y numbers should fall in the coming months. The PBOC kept its key 1-year MLF rate steady this week but we expect further easing in the coming months as the economy remains vulnerable and deflation risks set in.
The property sector remains weak. Property investment came in at -9.6% YTD vs. -9.5% expected and -9.4% in November, while property sales came in at -6.0% YTD vs. -4.3% in November. China’s property sector accounts for almost 40% of its steel consumption and the ongoing slump remains a big drag on the economy and a headwind for iron ore prices, Australia’s biggest commodity export. No wonder AUD continues to underperform most major currencies. AUD broke below its 200-day moving average near 0.6585 and has retraced over 50% of its October-December rise. The next key support for AUD is seen at the 100-day moving average near 0.6515. Elsewhere, China’s fixed asset investment rose a tick to 3.0% YTD.
Q4 GDP growth came in at 1.0% q/q vs. 1.1% expected and a revised 1.5% (was 1.3%) in Q3. The y/y rate came in at 5.2% y/y vs. 5.3% expected and 4.9% in Q3 and the improvement was largely due to low base effects, as China did not fully reopen until December 2022. Still, full year growth came in as expected at 5.2% vs. 3.0% in 2022 and met the official target of “around 5%.” Reports suggest that target will be kept for 2024 but will be much harder to meet without the benefit of low base effects.
Bank Indonesia kept rates steady at 6.0%, as expected. Governor Warjiyo said “Of course, there will still be room for a reduction in the BI rate in the future” and added that it would depend on how the rupiah, inflation, and credit growth develop. At the last meeting in December, he said “We may only start to ascertain the risks of exchange rate stability and other risks in the second half of 2024.” Bloomberg consensus sees steady rates through H1 followed by 50 bp of easing in Q3 followed by another 25 bp in Q4.
